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Hung Parliament 2010: how’s it going to affect us all? What to do?

A number of experts have predicted that a hung parliament 2010 would cut the value of your pension savings while at the same time increasing inflation and mortgage interest rates. So far, not all this has happened.

What's happened so far?

The Conservatives and Liberal Democrats have formed the first coalition Government since World War II. George Osborne, the new Chancellor of the Exchequer, has issued his Emergency Budget.

The Emergency Budget has focused on budget deficit cuts and
tax rises. Early indications suggest dramatic spending cuts across the board to be announced later in the Autumn.

While my initial thoughts that, based on a hung parliament 2010, the formation of a coalition government between Conservatives and Liberal Democrats would seriously endanger UK's credit rating with both shares and sterling taking further beatings, this doesn't seem to have happened (yet).

The worst thing for markets would be any coalition government failing in a few months, due to discord in agreeing spending cuts, and a new election being called. This would intensify the pressure on ratings agencies to downgrade the UK's sovereign rating from AAA and make fiscal consolidation even more difficult.

What happened during the last hung parliament?

For investors in UK shares, the last hung parliament, in 1974, was an absolute disaster. The FTSE All Share Index fell nearly 15 per cent in a month and ended the year more than 50 per cent down from where it began.

Of course, history may repeat itself in some form or other. However, this time, I believe, the possible triggers as a result of a hung parliament 2010 for a stock market downturn are somewhat different.

While currently there are not that many strikes going on, compared to 36 year ago, that may well chance rapidly during the Autumn as the hung parliament 2010 unfolds.

If and when the new government attempt to implement the huge spending cuts required, increases taxes, freezes salaries, and with subsequent unemployment numbers starting to rise again, we may well be before too long in the middle of a Winter of discontent.

You may also recall the oil crises in 1974, including power cuts and the like, and you may argue that there isn’t one now. I would say ‘we haven’t reached that point, yet’.

During 1974, foreign investors lost confidence in Sterling, forcing the Government to push up interest rates to defend the pound. This time around with, a hung parliament 2010, that may not be so simple.

These days it’s not the Government who is in control of interest rates but the Bank of England.

I would guess, until the Bank of England feels confident enough that the current economic and financial crisis has passed, interest rates can be raised again. However, a hung parliament 2010 may impede on such action.

Because, if and when one of the major ratings agencies downgrades a country (such as in the case of Greece, recently), it means the market will be less likely to lend that government money. This ultimately leads to them having to pay (much... much!) higher interest rates.

That makes sense. After all, the likelier you are to pay back the bondholder, the less additional money you should have to pay out over the life of the loan.

Views of the Bank of England?

Earlier in February, Bank of England Governor Mervin King warned us that:

“We do have a very large fiscal deficit and we are yet to tackle that and the rating agencies are bound to remain somewhat uncertain until we see measures clearly announced and defined that will deal with the fiscal deficit.”

This was followed by Mervin King's "off the cuff remarks" a week before the elections:

"....the austerity measures needed to tackle Britain's budget deficit would be so unpopular that whoever wins next week would not get back into government for a generation..."

Luckily, measures how to tame decisively the huge current budget deficit during a hung parliament 2010 has taken center stage.

The markets expected immediate debt reduction measures after the elections. The Emergency Budget and the subsequent noices regarding the proposed 25 per cent Budget cuts appears to have placated the market somewhat, and a Greece-style crisis with Britain losing its AAA credit rating appears to have been postponend at least for the time being.

Post-elections tax measures has only reinforced my view that if you have some money available you should consider getting it in all the current tax wrappers available, such as ISAs.
Taxes are not going to stop rising, anytime soon. That's unescapable in the current climate. For some substantially more than for others. Increases in the capital gains tax rate and VAT have been announced.

One thing which is fundamentally different from 1974, is that more than two thirds of earnings reported by FTSE100 companies are generated overseas, compared with less than 10 per cent in 1974.

While these larger companies are far less dependent on the British economy, it wouldn't surprise me if shares in general would to drop further if and when 'conflict' breaks out between the coalition partners about how to implement the drastic budget cuts endangering the survival of the hung parliament 2010.

From an Early Retirement Investor perspective, when considering
investing in high yield companies, the current uncertain period may well create opportunities to stock up on solid dividend paying companies.